More grief than relief
in tax plan
by David G. Tuerck
March 15, 1998
Last week, the Massachusetts House of Representatives
unanimously passed a $500 million tax relief plan billed as "the
state's largest tax cut ever."
The bill would reduce the tax on wages and
salaries (so-called "earned" income) from 5.95 percent
to 5.7 percent. This quarter-point "largest tax cut ever"
is a rate reduction of 4.2 percent.
It would increase and broaden exemptions
for dependents and deductions for children. And it would raise the
rates on long-term capital gains while lowering them on dividends
Tax relief is in the air this year. Most
candidates for governor, along with legislative leaders, have proposed
some form of it.
How much? The answer from the House is, "Not
The House bill represents a choice for bigger
government over both popular sentiment and economic growth.
Massachusetts currently taxes personal income
at some of the country's highest rates–5.95 percent on wages and
salaries and 12 percent on dividends and interest. Economic growth
and high tax rates have brought record surpluses. For the second
year in a row, Massachusetts will run a surplus of about $800 million,
enough to make deeper tax cuts "affordable."
Acting Gov. Paul Celluci has proposed deeper
tax cuts. He would cut both the wage and salary, and the interest
and dividend tax rates to 5 percent. This would bring taxes back
into line with the rates that prevailed until a revenue "emergency"
of several years ago pushed tax rates to their current levels.
Deeper cuts are popular. Asked in a poll
last October by the Beacon Hill Institute whether they favored cutting
the tax on earned income to 5 percent, respondents answered "Yes"
by a resounding 4-1 margin.
Think of state tax law as imposing a penalty
on a taxpayer's decision to earn another $1,000 in income--it could
be by accepting more overtime, taking on more clients, staying open
longer hours or something else. The House plan would reduce this
penalty by $2.50. The governor's plan would reduce it by $9.50.
This has measurable effects on the ability
of Massachusetts employers to attract workers, especially important
in the current tight labor market, and to invest in their businesses
by acquiring equipment, buildings, computer software and the like.
The Beacon Hill Institute finds that, for
example, the House plan would stimulate the creation of about 29,100
new jobs and about $5 billion in new business capital by 2001. The
governor's plan would create about 110,000 new jobs and $20 billion
in new business capital.
To be sure, the more powerful stimulus represented
by the governor's plan would produce a greater loss in tax revenue--about
$1.2 billion rather than, as under the House plan, $304 million
by 2001. The choice, then, is more economic growth or more government.
Relevant to this choice are two facts: State
revenues have been growing at almost twice the inflation rate for
10 years, and at current growth rates, the increase in revenues
will exceed $1.2 billion by 2001–evidence that the state could well
afford deeper tax cuts than the House wants.
Under the House plan, revenues will still
grow faster than inflation. And state government will continue to
grow faster than the rest of the economy.
While provisions to increase exemptions and
deductions would put more money back into the pockets of taxpayers,
they do little to stimulate the economy. Stimulation requires cuts
in the rate on additional income, not just lower tax bills.
Finally, the House plan sends a mixed message
to investors. While it cuts the tax rate from 12 percent to 5.7
percent for dividends and interest, and to 10 percent for short-term
capital gains, it raises the tax rate on long-term capital gains
from 3 percent next year to 5.7 percent.
The House plan raises issues of good government
as well as economics. In 1994, the Legislature cut the capital gains
tax in exchange for a members' pay increase. It thus made a commitment
to voters and investors for less government and a better investment
climate. In reneging, the House calls into question its regard for
voter opinion and investor confidence.
As the tax issue passes to the Senate, there
is the prospect that the Legislature will approve even less generous
tax relief. There is the prospect that, with both parties willing
to accept any tax cut that House and Senate leaders put forth, there
will be no meaningful tax relief this year. More important, there
is the prospect that voters will have been denied meaningful debates
over the proper size of government and the effect of government
on economic growth.
Despite what House leaders would have us
believe, their plan is not the largest tax cut ever. It is the smallest
they could offer without risking larger cuts later, depending on
the outcome of the elections. The House offers far less than what
voters want, what the state can afford or what the economy needs.
This article first appeared in the Boston
Sunday Herald on March 15, 1998.
Format revised on 18 August,